Time to read : 6 Minutes
Salary sacrifice, also known as salary packaging, allows you to allocate a portion of your pre-tax income to access benefits through your employer. It could deliver a big boost come tax time by lowering your take home pay each week, and you may be able to use your pre-tax salary for benefits including childcare and health insurance.
But salary sacrificing isn’t right for everyone and it’s important to consider the pros and cons before you sign up. Here’s what you need to know to make an informed decision.
What is salary sacrifice?
Salary sacrifice is an agreement between you and your employer where you receive less income after tax in return for your employer paying for benefits which come out of your pre-tax salary.
These benefits can be things like:
a company car
childcare
additional payments into your superannuation.
You nominate how much of your salary you want to sacrifice. For example, you can opt to take $100 out of your pre-tax fortnightly pay cheque to put into your superannuation account, which would reduce your annual income by $2,600.
This then means you have a lower taxable income and may result in you paying less income tax.
Not all employers offer salary sacrificing arrangements and you need to have a conversation with your employer to find out what options are available to you.
What are the pros of salary sacrificing?
The main advantages of salary sacrificing are that you’re using your pre-tax dollars, giving yourself more spending power, and reducing your taxable income.
Tax benefits
Reduced taxable income
By reducing your taxable income, salary sacrificing can lower the amount of income tax you are required to pay. This is why salary sacrificing is usually more beneficial to those in higher tax brackets.
Increased superannuation
Contributing more to your superannuation through salary sacrificing can help build your retirement savings faster. Super contributions have a concessional tax rate of 15%, which means if you’re usually taxed at 30%, you’re significantly reducing that amount.
GST savings
Some salary sacrifice items, such as laptops or mobile phones, may be eligible for GST savings, effectively reducing the cost of the item.
Flexibility
Customised benefits
Salary packaging allows employees to choose benefits that suit their lifestyle and financial goals. This can be really helpful if you have specific financial goals.
Improved cash flow
If you’re paying for a large ticket item through salary sacrifice, such as a car, it can allow you to spread that cost out over time and break it into manageable payments. This can reduce the burden of a large purchase.
Potential for long-term savings
Superannuation
Being able to contribute to your superannuation early in your career can significantly increase your balances when you retire. Through salary sacrificing, you’re able to take advantage of reduced tax rates and also speed up the compound growth in your superannuation fund.
Maximised savings
If you’re a first home buyer, you can use the salary sacrificing model to boost your superannuation. You can then use it as part of the First Home Super Saver scheme for a house deposit.
What about the cons of salary sacrificing?
Salary sacrificing doesn’t work for everyone and there are a number of things to think about before you talk to your employer.
Reduced immediate income
Salary sacrificing reduces your take-home pay, which might affect your ability to manage your everyday living expenses. You should be aware of your cash flow before looking at packaging, to ensure you’ll still have enough in your pay packet to cover bills, rent, mortgage etc.
Superannuation limits
There are limits to how much you can contribute to your superannuation through salary sacrificing. The concessional contributions cap is currently $30,000 per year. Exceeding this limit may result in additional taxes and negate the positive impact of salary sacrificing.
Be aware: if you use salary sacrificing to top up your superannuation, that isn’t money you can access. It’s not the same as building your savings in a regular account or fund.
Fringe Benefits Tax (FBT)
A number of benefits are exempt from FBT. Mark Chapman, Director of Tax Communications at H&R Block says that these include many work-related items commonly provided in salary sacrifice arrangements including:
a portable electronic device
an item of computer software
an item of protective clothing
a briefcase
a tool of trade.
Note that exemption of work-related items is limited to:
items primarily for work-related use
one item per FBT year for items that have a substantially identical function, unless the item is a replacement item.
Important: the one item rule does not apply to employees working for a small business (those defined as having a turnover of less than $50 million). That means that multiple work-related items can be provided FBT free, for example a phone and a laptop.
Effect on other benefits
Because salary sacrificing reduces your taxable income, it can impact benefits that rely on that figure. This can include workers compensation or insurance payouts.
Administrative burden
Salary sacrificing arrangements can be complex and may require ongoing management. Your employer has tax obligations based on the agreement too, and these may place additional requirements on you.
Changes in legislation
Tax laws and regulations surrounding salary sacrificing can change, which may affect the benefits of the arrangement. Staying informed and regularly reviewing your salary sacrifice arrangements is essential.
Employer restrictions
Not all employers offer salary sacrifice arrangements, and some may limit the types of benefits available. If you change jobs, check what salary sacrificing options your new employer may offer you.
“You should always get an agreement in writing between you and your employer clearly stating all the terms of the salary sacrifice arrangement,” said Mark.
“This contract, although generally put in writing, may also take a verbal form. However, if you chose to enter into an undocumented salary sacrifice arrangement, in other words a verbal agreement, you may have difficulty establishing the facts of your agreement,” added Mark.
Top tip: always make sure that an agreement is put in place between you and your employer before the work is performed. If the arrangement is put into place after the work has been performed, the salary sacrifice arrangement may be ineffective.
Bottom line
Salary sacrificing often won’t work for individuals in lower tax brackets, because the savings just aren’t available. It’s a system that benefits mid to high income earners and requires a lot of flexibility around your day-to-day cash flow.
However, if you can make it work, the benefits are there, particularly when it comes to giving your superannuation a boost.
If it sounds like salary sacrificing might be the right fit for you, speaking to an accountant or tax expert is the best way to work out what package would work best, and check with your employer to see what is available to you.
Go deeper:
Financial Disclaimer
The information contained on this web page is of general nature only and has been prepared without taking into consideration your objectives, needs and financial situation. You should check with a financial professional before making any decisions. Any opinions expressed within an article are those of the author and do not specifically reflect the views of Compare Club Australia Pty Ltd.
